What is Machine Hour Rate?
Machine Hour Rate is a cost accounting term that refers to a method of allocating manufacturing overheads to products based on the time machines are utilized in the production process. The formula used for calculating the Machine Hour Rate is:
\[ \text{Machine Hour Rate} = \frac{\text{Total Manufacturing Overheads}}{\text{Total Machine Hours}} \]
This rate is essential for accurately absorbing or imputing the cost of machinery use into the final product cost, ensuring a fair allocation of overheads across different products manufactured.
How It Works
Machine Hour Rate aims to distribute the cost of operating machinery (including maintenance, depreciation, power consumption, etc.) on a per-hour basis to the goods produced. By doing this, companies can more accurately estimate their production costs and set more competitive pricing strategies. This rate becomes crucial for heavy machinery industries where significant capital and operational expenses are involved.
Formula Breakdown
- Total Manufacturing Overheads: This includes all costs associated with machinery operation, such as repairs, maintenance, depreciation, power, labor for machine operation, etc.
- Total Machine Hours: The total number of hours the machines are operational during a specific period.
\[ \text{Machine Hour Rate} = \frac{\text{Total Cost of Operating the Machine}}{\text{Total Number of Machine Hours}} \]
Examples
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Example 1:
- Total Manufacturing Overheads: $100,000
- Total Machine Hours: 5,000 hours
- Machine Hour Rate: $100,000 ÷ 5,000 = $20 per hour
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Example 2:
- Total Manufacturing Overheads: $50,000
- Total Machine Hours: 2,500 hours
- Machine Hour Rate: $50,000 ÷ 2,500 = $20 per hour
Frequently Asked Questions (FAQs)
Q: Why is calculating the Machine Hour Rate important?
A: Calculating the Machine Hour Rate is crucial because it helps in accurately attributing a portion of the manufacturing overhead to products, leading to more precise product costing and pricing.
Q: How does the Machine Hour Rate impact pricing strategies?
A: Knowing the Machine Hour Rate allows businesses to incorporate machinery expenses into their product cost analysis, leading to more informed and competitive pricing strategies.
Q: Can Machine Hour Rate be used in all industries?
A: While it is most beneficial in industries with heavy machinery use, it can be adapted for any production setting where machinery operating costs need to be allocated to production costs for better accuracy.
Q: What costs are included in the total manufacturing overheads?
A: Costs typically include repairs, maintenance, depreciation, power, labor for machine operation, and other indirect costs related to machine usage.
Related Terms
Absorption Costing
A method of costing that includes all manufacturing costs - direct materials, direct labor, and both variable and fixed manufacturing overheads.
Overhead Rate
The cost allocated to production based on a rate per activity or cost driver, such as machine hours or labor hours.
Cost Allocation
The process of distributing indirect costs to different products, services, or departments they support.
Depreciation
An accounting method of allocating the cost of a tangible asset over its useful life.
Fixed Costs
Operational expenses that do not fluctuate with production volume.
Online Resources
Suggested Books for Further Studies
- “Cost Accounting: A Managerial Emphasis” by Charles T. Horngren, Srikant M. Datar, and Madhav V. Rajan
- “Managerial Accounting” by Ray H. Garrison, Eric Noreen, and Peter C. Brewer
- “Introduction to Management Accounting” by Charles T. Horngren and Gary L. Sundem
Accounting Basics: “Machine Hour Rate” Fundamentals Quiz
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